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Steve Webb: Pension freedoms tax take is a win for consumers and the Treasury

In the blizzard of numbers accompanying this year’s Spring Budget was the Treasury’s latest estimate of the additional tax revenue it has received since the introduction of pension freedoms in April 2015.

The headlines stated the new rules had increased the tax take by £1.5bn in 2015/16 compared with an original estimate of £0.3bn, and by £1.1bn in 2016/17 compared with an original estimate of £0.6bn.

So what do these figures tell us about the success or otherwise of the freedom and choice regime? To understand this, it is worth reflecting on where the extra tax actually comes from.

Gold rush

First, there would have been a set of people with middling pension pots that would previously have bought an annuity. Their pot was too large to cash out and too small for drawdown to be a viable option. In the past, these people would have drawn a regular taxable income for as long as they lived. Under the new rules, they can put their money into drawdown and withdraw as much or as little as they like.

If they draw money out faster than under an annuity, then this will bring forward tax revenue. If they take a large lump sum they could even find themselves moving into higher tax brackets. All to the advantage of the Treasury.

The second group that ends up paying more tax are those who would have gone into drawdown under the old rules and who would have been heavily constrained as to how much money they could withdraw.

With these rules having been substantially relaxed, this group are likely to take money out more quickly and, again, pay more tax as a result.

The trouble with estimates

Some have voiced concerns the much larger tax take from pension freedoms should worry us. Their argument is people must be taking out money “too quickly” and perhaps they will end up running out later in retirement.

In truth, though, we cannot draw such conclusions from headline figures like this.

First, the original Treasury estimates were just that: an estimate. The fact take-up of the freedoms has been greater than expected is far from being a sign of failure. It could well indicate the extent to which people have decided a different mix of capital and income in retirement is right for them, and how the changes have allowed them to order their own affairs in the way that works for them.

Second, the fact more tax was raised in 2015/16 than in 2016/17 shows how much pent-up demand there was when the reforms were introduced.

People had over a year to sit on their pension pots between when the new rules were announced in the 2014 Budget and when the starting gun was actually fired.

It should not really have come as a surprise to the Treasury that there would be a surge of activity in the first year.

Ultimately, what matters is whether the right people are exercising their pension freedoms. Where people are making choices based on expert advice or are turning small pots into useful cash lump sums, it is hard to see that as anything other than a good thing.

Steve Webb is director of policy at Royal London and a former pensions minister. Read more of his Money Marketing columns here.

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Comments

There are 12 comments at the moment, we would love to hear your opinion too.

  1. But how many people are cashing out their pension pots without taking advice, incurring tax on the proceeds and blowing what’s left on some short term luxury, only to find themselves short of retirement income just a few years later? Just because somebody has so far managed to accumulate only a modest pension fund is hardly justification for abandoning any sort of retirement savings strategy. Most “expert advice”, IMHO, is likely to be not to cash out but to build on what they have.

    • Its our money ,most arn’t stupid we shoud not have restraints because of the odd person that cant manage there finances,surely folk that are in drawdown are not stupid to have got in that position in the first place.

  2. I wonder how much of the tax that the treasury has received was known when the client asked to cash in their pension fund? Many will have thought they were getting X but Y was deducted and paid to the treasury. Once done though, there is no way to undo it.

  3. Christine Brightwell 28th March 2017 at 12:26 pm

    I suspect little proper advice has been got – and sadly many people are not able to recognise advice from suggestions that immediate control of funds is preferable to taking benefits in a measured and thoughtful way. Sometimes it may be that freedoms need to be managed a bit – like the freedom to speak on a mobile telephone whilst driving, the freedom for employers to put employees in dangerous working conditions – usually it works out ok but there will be the odd time where there is a collision or a damaged employee. Or in the case of pensions, a person who has accidentally paid much more tax than they expected and are then in a position where their finances fall apart. Never mind eh, there are lots of state benefits to fall back on…

  4. I heard anecdotal (but 2nd hand – i.e. a colleague of a client) evidence of someone who transferred out of a DB scheme simply to prove that he could. Hardly sound footing for one of the biggest financial decisions he’ll ever make but I;m sure that added to the tax take nicely!

    The benefits of advice aren’t just financial (some examples of which Christine has covered) but advisers also have practical experience and knowledge which are turned into advice to help the client achieve a good outcome.

    For example, I’ve forgotten how many times I’ve been told when a pension holder dies, their pension dies with them. Also, that ‘pensions don’t perform well’ – when corrected, one maybe two hurdles are removed but I wonder how many make decisions based on misinformation, mistrust and misunderstanding.

  5. Steve, whilst I have a good deal of respect for you, this still sounds like a politicians answer. Many people live for today and the lure of a biggish lumps sum is just too tempting in the short term – a pensions manjana! The tax take is the same as extortionate interest rates on pay day loans, many people just don’t think about the next few years. a bit like politicians who work in 5 year cycles when a 30 to 50 year vision is needed.

    I’d be confident that the newly introduced ‘insistent client’ rules have been brought in as a means of allowing more early access to pension funds and thus more cash being spent (exchequer take) and more tax take in the short term. Unfortunately fools do tend to rush in where angels fear to tread!

  6. A major reason for people now being shorter on retirement income than they thought is the decision to retrospectively reduce the MPAA. Encouraging us to save to fund our own retirement? – Hardly. And that’s the example everyone’s being set…

  7. Living the Dream Dream ..... 28th March 2017 at 9:30 pm

    I find it incredible that ‘advisers’ think that people who have been savvy enough to build up a substantial pension fund are just a group of people who ‘rush in’ and dont think through their actions. Just maybe these people dont need the ‘advice’ of a self righteous adviser. Personally I would suggest effort and concentration is placed in helping clients with small or no retirement provisions and by doing so maybe earning some worth while fees!

    • Any “self-righteous” adviser worth his weight would be happy to tell someone that they could do something themselves if it were possible and the client was willing.

      What is your definition of a substantial pension fund? I have seen many clients who don’t know what the rules are regarding their £100k+ pension funds. As an example I stopped a guy from using an annuity service to purchase an income that he had told me he didn’t want just to free his tax free lump sum. He was actually entitled to 60% tax free cash. A fact that he wasn’t aware of and had he proceeded he would have lost that entitlement.

      I felt particularly “self-righteous” that day.

  8. Next David Webb will say letting people getting their hands on a big chunk of money, and putting a big chunk into HMRC just before an election was not a factor.

    Really?.

  9. I take anything `Sir Steve` says with a huge basin of caution. He is of course the man who told his (now ex) constituents who had prudently saved with Equitable Life, that they did not deserve more compensation when his Government decided to rob 1 million families of 80% of the compensation the Government itself had calculated and admitted it owed them. He also famously admitted that he had `over-simplified ` (ie deliberately mis-led Parliament and the public) on the new flat rate pension ie c70% of people approaching would not get it.
    Still he has done very well out of ..loads of money from his new employer and a knighthood…no need for him to sacrifice anything 9other than principles) for a pension.

  10. Terry Mullender 29th March 2017 at 9:39 pm

    As with most things in life, time will tell whether the majority of people who access their pension fund “flexibly” have done so sensibly and exercised constraint in times of falling investment markets. I suspect that many will, however, I also suspect that a substantial minority wont have the financial discipline and will deplete their pension fund. With freedom comes responsibility. I liken it to having a credit card with a substantial credit limit. Most people will use the card sensibly others will not. Such is life….

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